In 2008, payday lenders suffered a major defeat when the Ohio
legislature banned high-cost loans. That same year, they lost again when they
dumped more
than $20 million into an effort to roll back the law: The public voted
against it by nearly two-to-one.

But five years later, hundreds of payday loan stores still operate in
Ohio, charging annual rates that can approach 700 percent.

It’s just one example of the industry’s resilience. In state after
state where lenders have confronted unwanted regulation, they have found ways
to continue to deliver high-cost loans.

Sometimes, as in Ohio, lenders have exploited loopholes in the law. But
more often, they have reacted to laws targeted at one type of high-cost loan by
churning out other products that feature triple-digit annual rates.

To be sure, there are states that have successfully banned high-cost
lenders. Today Arkansas is an island, surrounded by six other states where ads scream
“Cash!” and high-cost lenders dot the strip malls. Arkansas’ constitution caps
non-bank rates at 17 percent.

But even there, the industry managed to operate for nearly a decade
until the state Supreme Court finally declared those loans usurious in 2008.

The state-by-state skirmishes are crucial, because high-cost lenders
operate primarily under state law. On the federal level, the recently formed
Consumer Financial Protection Bureau can address “unfair, deceptive or abusive
practices,” said a spokeswoman. But the agency is prohibited from capping
interest rates.

In Ohio, the lenders continue to offer payday loans via loopholes in
laws written to regulate far different companies — mortgage lenders and
credit repair organizations. The latter peddle their services to people
struggling with debt, but they can charge unrestricted fees for helping
consumers obtain new loans into which borrowers can consolidate their debt.

Today, Ohio lenders often charge even higher annual rates (for example,
nearly 700 percent for a two-week loan) than they did before the reforms, according
to a report
by the nonprofit Policy Matters Ohio. In addition, other breeds of high-cost
lending, such as auto-title loans, have recently moved into the state for the
first time.

Earlier this year, the Ohio Supreme Court agreed to hear a case
challenging the use of the mortgage law by a payday lender named Cashland. But
even if the court rules the tactic illegal, the companies might simply find a
new loophole. In its recent annual report, Cash America, the parent company of Cashland,
addressed the consequences of losing the case: “if the Company is unable to
continue making short-term loans under this law, it will have to alter its
short-term loan product in Ohio.”

Amy Cantu, a spokeswoman for the Community Financial Services
Association, the trade group representing the major payday lenders, said
members are “regulated
and licensed in every state where they conduct business and have worked with
state regulators for more than two decades.”

“Second generation” products

When unrestrained by regulation, the typical two-week payday loan can
be immensely profitable for lenders. The key to that profitability is for
borrowers to take out loans over and over. When the
CFPB studied a sample of payday loans earlier this year, it found that
three-quarters of loan fees came from borrowers who had more than 10 payday
loans in a 12-month period.

But because that type of loan has come under intense scrutiny,
many lenders have developed what payday lender EZCorp
chief executive Paul Rothamel calls “second generation” products. In early 2011,
the traditional two-week payday loan accounted for about 90 percent of the
company’s loan balance, he said in a recent call with analysts. By 2013, it had
dropped below 50 percent. Eventually, he said, it would likely drop to 25
percent.

But like payday loans, which have annual rates typically
ranging from 300 to 700 percent, the new products come at an extremely high
cost. Cash America, for example, offers a “line of credit” in at least four
states that works like a credit card — but with a 299 percent annual
percentage rate. A number of payday lenders have embraced auto-title loans,
which are secured by the borrower’s car and typically
carry annual rates around 300 percent.

The most popular alternative to payday loans, however, are
“longer term, but still very high-cost, installment loans,” said Tom Feltner,
director of financial services at the Consumer Federation of America.

Last year, Delaware passed a major payday lending reform
bill. For consumer advocates, it was the culmination of over a decade of effort
and a badly needed measure to protect vulnerable borrowers. The bill limited
the number of payday loans borrowers can take out each year to five.

“It was probably the best we could get here,” said Rashmi
Rangan, executive director of the nonprofit Delaware Community Reinvestment
Action Council.

But Cash America declared in its annual statement this year
that the bill “only affects the Company’s short-term loan product in Delaware
(and does not affect its installment loan product in that state).” The company
currently offers a seven-month installment loan there at an annual rate of 398
percent.

Lenders can adapt their products with surprising alacrity. In
Texas, where regulation is lax, lenders make more than eight times as many
payday loans as installment loans, according to the most recent state
data. Contrast that with Illinois,
where the legislature passed a bill in 2005 that imposed a number of restraints
on payday loans. By 2012, triple-digit-rate installment loans in the state
outnumbered payday loans almost
three to one.

In New Mexico, a 2007 law triggered the same rapid shift. QC
Holdings’ payday loan stores dot that state, but just a year after the law, the
president of the company told analysts that installment loans had “taken the
place of payday loans” in that state.

The products reflect a basic fact: Many low-income borrowers
are desperate enough to accept any terms. In a
recent Pew Charitable Trusts survey, 37
percent of payday loan borrowers responded that they’d pay any price for a
loan.

The loans were unconscionable for a reason beyond the
extremely high rates, the suits alleged. Employees did everything they could to
keep borrowers on the hook. As one FastBucks employee testified, “We just
basically don’t let anybody pay off.”

“Inherent in the model is
repeated lending to folks who do not have the financial means to repay the
loan,” said Karen Meyers, director of the New Mexico attorney general’s
consumer protection division. “Borrowers often end up paying off one loan by
taking out another loan. The goal is keeping people in debt indefinitely.”

In bothcases, the
judges agreed that the lenders had illegally preyed on unsophisticated
borrowers. Cash Loans Now’s parent company has appealed the decision. FastBucks filed for bankruptcy protection after the judge
ruled that it owed restitution to its customers for illegally circumventing the
state’s payday loan law. The attorney general’s office estimates that the
company owes over $20 million. Both companies declined to comment.

Despite the attorney
general’s victories, similar types of loans are still widely available in New
Mexico. The Cash Store, which has over 280 locations in seven states, offers an
installment loan there with annual rates ranging from 520 percent to 780
percent. A 2012 QC loan in New Mexico reviewed by ProPublica carried a 425
percent annual rate.

“Playing Cat and Mouse”

When states — such as Washington,
New York and New Hampshire — have laws prohibiting high-cost installment
loans, the industry has tried to change them.

A bill introduced in Washington’s state senate early this
year proposed allowing “small consumer installment loans” that could carry an
annual rate of more than 200 percent. Though touted as a lower-cost alternative
to payday loans, the bill’s primary backer was Moneytree, a Seattle-based
payday lender. The bill passed the state senate, but stalled in the house.

In New Hampshire, which banned high-cost payday loans in
2008, the governor vetoed a bill last year that would have allowed installment
loans with annual rates above 400 percent. But that wasn’t the only bill that high-cost
lenders had pushed: One to allow auto-title loans, also vetoed by the governor,
passed with a supermajority in the legislature. As a result, in 2012, New
Hampshire joined states like Georgia and Arizona that have banned triple-digit-rate
payday loans but allow similarly structured triple-digit-rate auto-title loans.

Texas has a law strictly limiting payday loans. But since it
limits lenders to a fraction of what they prefer to charge, for more than a
decade they have ignored it. To shirk the law, first they partnered with banks,
since banks, which are regulated by the federal government, can legally offer
loans exceeding state interest caps. But when federal regulators cracked down
on the practice in 2005, the lenders had to find a new loophole.

Just as in Ohio, Texas lenders started
defining themselves as credit repair organizations, which, under Texas law,
can charge steep fees. Texas now has nearly 3,500 of such businesses, almost
all of which are, effectively, high-cost lenders. And the industry has
successfully fought off all efforts to cap their rates.

Seeing the lenders’ statehouse clout, a number of cities,
including Dallas, San Antonio and Austin, have passed local ordinances that aim
to break the cycle of payday debt by limiting the number of times a borrower
can take out a loan. Speaking to analysts early this year, EZCorp’sRothamel said the ordinances had cut his company’s profit
in Austin and Dallas by 90 percent.

But the company had a three-pronged counterattack plan, he
said. The company had tweaked the product it offered in its brick-and-mortar
outlets, and it had also begun to aggressively market online loans to customers
in those cities. And the industry was pushing a statewide law to pre-empt the
local rules, he said, so payday companies could stop “playing cat and mouse
with the cities.”

Jerry Allen, the Dallas councilman who sponsored the city’s
payday lending ordinance in 2011, said he wasn’t surprised by the industry’s
response. “I’m just a lil’ ol’ local guy in Dallas, Texas,” he said. “I can
only punch them the way I can punch them.”

But Allen, a political independent, said he hoped to persuade
still more cities to join the effort. Eventually, he hopes the cities will force
the state legislature’s hand, but he expects a fight: “Texas is a prime state
for these folks. It’s a battleground. There’s a lot of money on the table.”